VAT is something that most people find more than a little confusing. And in 2002, the Chancellor added yet another aspect to get your brain around. However this time it is potentially good news for up to 700,000 small businesses.

The optional flat rate scheme allows businesses with up to £100,000 turnover to make a flat-rate calculation for VAT payments based on turnover, rather than having to record the VAT of every sale and purchase.

As the name implies, it isn’t compulsory for businesses to join the scheme but the idea is that it will reduce the administration burden on small businesses. In most cases the business can work out the net VAT due to Customs by recording their tax inclusive turnover and applying the appropriate flat rate percentage for their trade sector to total income. And that is the amount of VAT paid.

Trade sectors

The flat rate percentages by trade sector, last amended on 1 January 2004, are as follows:
 

Rate

Sector

2%

Retailing food, confectionery, tobacco, newspapers or children's clothing

5.5%

Membership organisation, postal and courier services, pubs, wholesaling food

6%

Farming or agriculture not listed elsewhere, retailing not listed elsewhere, wholesaling agricultural products, postal and courier services; public house

7%

Retailing pharmaceuticals, medical goods, cosmetics or toiletries, retailing vehicles or fuel, sort or recreation, wholesaling not listed elsewhere, other retail, wholesale

7.5%

Agricultural services, library, archive, museum or other cultural activity, manufacturing food, printing, repairing vehicles

8.5%

General building or construction services, hiring or renting goods, manufacturing that is not listed elsewhere, manufacturing yarn, textiles or clothing, packaging, repairing personal or household goods, social work

9%

Forestry or fishing, mining or quarrying, transport or storage, including freight, removals and taxis, travel agencies, building or construction services where materials supplied

9.5%

Advertising, dealing in waste or scrap, hotel or accommodation, photography, publishing, veterinary medicine, rental of machinery, equipment, personal or household goods;

10%

Any other activity not listed elsewhere, investigation or security, manufacturing fabricated metal products 

10.5%

Boarding or care of animals, film, radio television or video production

11%

Business services not listed elsewhere, computer repair services, entertainment or journalism, estate agency or property management services, laundry or dry-cleaning services, secretarial services, animal husbandry

11.5%

Financial services

12%

Catering services, including restaurants and takeaways, entertainment, excluding television, video & film production, hairdressing or other beauty treatment services, real estate activity not listed elsewhere

12.5%

Architect, civil and structural engineer or surveyor

13%

Accountancy and bookkeeping

13.5%

Labour-only building or construction services, Computer and IT consultancy or data processing, lawyer or legal services, computer repair services, management consultancy, lawyers & legal services

Remember, though, that if you are making supplies to other VAT registered businesses, you give them a VAT invoice charging VAT at the normal rate for the supply (not the flat rate percentage).

To give an example of how the scheme works:

A photographer undertakes portraits for unregistered private customers and also does commercial photography work. In a VAT period, the commercial work amounts to £10,000 and the photographer will issue an invoice for £11,750 (£10,000 plus VAT at 17.5%). The portrait work undertaken raises £7,500 including VAT.

During the course of the VAT period the photographer will not have to record any purchases or expenses relating to the work done. At the end of the period, to work out the net VAT due, he adds the gross sales in the period, which in this case comes to £19,250, (£11,750 commercial £7,500 private). He multiplies that figure by the flat rate percentage for photography businesses of 10%. The resulting amount of £1,925 will be the figure the photographer will have to pay Customs.

If your business falls into more than one trade sector, you must use the percentage that applies to the part of the business that is set to generate the greater turnover in the year ahead.

Joining procedure

There are a few exceptions but overall the scheme is open to most small businesses. To check whether you are eligible and to see the joining procedure go to HM Customs and Excise website and see VAT notice 733 Flat rate scheme for small businesses.

The turnover threshold was extended in April 2004 to £150,000, eventually benefiting around 700,000 firms.